Where Are All the Workers?

The article below is from our BRIEFINGS newsletter of 23 December 2021

What’s causing workers to drop out of the labor force continues to be a topic of debate among investors and policy makers. In the U.S., the labor force participation rate stood at 61.8% in November, compared with 63.3% in February 2020. We spoke with Daan Struyven, senior global economist at Goldman Sachs, to discuss the firm’s outlook on U.S. and worldwide labor participation.

Your research suggests that U.S. government support for households and businesses accounts for about half of the shortfall in labor participation since the start of the pandemic. Other studies have come up with a smaller number. Why are your findings different?

Daan Struyven: What makes our methodology unique is that we use the cross-country differences. The pattern we find is that countries where fiscal support is very strong are countries where the participation rate has generally underperformed.

The most notable case is Chile, where not only was fiscal support very strong, but households were also able to withdraw liquidity from their pension funds as the rules changed, and Chile’s participation rate remains five percentage points below its 2019 level. Our estimates essentially reflect this strong correlation across countries between high fiscal support and relatively weak labor-force participation.

The research points out that just because fiscal support appears to have reduced the labor-participation rate doesn’t mean it has been bad for the economy. Can you explain why that is?

Daan Struyven: It’s true that the participation rate’s recovery has probably been a bit slower as a result of fiscal support—that’s what our findings suggest. At the same time, I don’t think it’s obvious that there has necessarily been a negative impact on broader measures of wellbeing.

Fiscal support really allowed people to replace the income that they lost from not working. You had a replacement of labor income with transfer income. And that allowed people to continue to consume, which in turn supported labor demand. You avoided, if you want, a negative feedback loop.

The second potential benefit from a broader wellbeing perspective is that it allowed people to still maintain their consumption while not working, in a period when working, especially before the vaccines were there, could be particularly dangerous for some vulnerable workers in high-contact sectors. Or, alternatively, where people had to take care of children or the elderly. The opportunity cost of time off from working was presumably quite high for many individuals.

Goldman Sachs research signals that the form of labor support also partly explains why the labor supply in the U.S. has lagged behind some other countries. Can you explain why that is?

Daan Struyven: Between the U.S. system, where you replace income through unemployment benefits, and the European system, where, essentially, workers stay on the payroll, but the government pays around 80% of your prior wage while you work not at all or work reduced hours, the one thing in common is that the two systems provide income replacement. The key difference is: do you maintain the relationship between the worker and the firm?

In the U.S. case, people are unemployed and the relationship is at least temporarily broken. Whereas in Europe or other countries, for instance Japan or Australia, the relationship was intact. And so that meant when demand rebounded and when activity rebounded it was easier for workers to pick up the work at their employer where they were still on the payroll. In the U.S., if you’re not on the payroll any more, it might make it harder to find a new job. The companies may have reorganized themselves, they may have invested in new technology.  Empirically we find that the system where a lot of workers stay on the job-retention schemes is associated with better labor-force participation performance.

Does the research indicate which system or policy—unemployment benefits versus job-retention systems—has been better for the economy overall?

Daan Struyven: It’s still a bit early to tell. We’re starting to see signs that the U.S. labor-participation rate is rebounding. Some of the job retention schemes in Europe are still in place. You still don’t know what the full effects will be once those schemes end.

We find at the moment that job-retention schemes are associated with better labor-force participation performance. On the other hand, what we also find in the data is that labor-productivity growth in the U.S. has outperformed, perhaps because U.S. firms continue to produce a lot with a smaller number of workers. A second potential benefit is that if the post-pandemic economy looks structurally very different, with more jobs in some industries and fewer jobs in others, then actually there might be benefits to the U.S. system because you allow people to switch from old jobs to new jobs. There’s a potentially a reallocation benefit.

Do you think the U.S. participation rate will get back to where it was before the pandemic, and, if so, when do you think it will have recovered?

Daan Struyven: We look for a partial rebound (see chart above), but we think the participation rate will remain structurally below its pre-pandemic trend in the U.S. The main reason is that job losses have likely triggered permanent exits from the labor force in the U.S., especially among workers who are near the retirement age. But we do look for a partial rebound as some of the factors I’ve mentioned that are now weighing on participation diminish in importance. The fiscal effect will probably diminish as some of the savings that people built up are partially depleted. The negative effect of virus fears on participation that we also document here will probably also diminish as hopefully the virus situation improves, especially after an Omicron wave.